For me, Microsoft Corporation (NASDAQ:MSFT) stock is stuck in no-man’s land.
On one hand, its a big tech stock with a huge moat and a hyper-growth cloud sub-narrative. That has given MSFT stock a ton of momentum over the past year, as Microsoft has developed into a cloud computing giant.
From a technical standpoint, the upward trend is intact. The stock tested a critical resistance level in that uptrend around $73 last week, but MSFT stock price quickly bounced off that level. The bulls clearly remain in control.
On the other hand, Microsoft isn’t a full-blown cloud growth story, at least yet. Certain aspects of the business (Dynamics 365, Office 365, and Azure) are growing rapidly, but most of the business has stable, low-growth prospects. After all, revenues only grew 5% last year and are expected to grow in the high single-digit range over the next several years. Multi-year earnings growth prospects are pegged at just 11% per year.
But MSFT stock trades at a rather rich 23.3 times forward earnings. That simply feels like too much for just 11% growth.
When it comes to Microsoft stock, then, I think its a battle between fundamentals and momentum. The fundamentals won’t change anytime soon. This is a stable, low-growth company with a few high-growth segments. But the momentum could change rather quickly.
Consequently, I think its best to avoid MSFT stock at these levels. Eventually, fundamentals will win out.
Microsoft Stock in 5 Years
Here’s a good question: Where will Microsoft stock be in 5 years?
Tough to say. But we can use current analyst estimates to project where earnings will be in 5 years.
MSFT reported adjusted earnings of $3.31 per share last year. Analysts think those earnings will grow 11% per year over the next 5 years. That puts fiscal 2022 earnings at $5.59, which means MSFT stock is trading at 13.4 times earnings that are 5 years out.
Is that good value?
Lets compare MSFT stock to the FANG group:
Facebook Inc (NASDAQ:FB) reported adjusted earnings of $4.23 per share last year. Analysts put the 5-year forward earnings growth rate at 26%. That puts earnings at $13.24 in 5 years. FB’s 5-year forward multiple, then, is 12.8, lower than Microsoft’s.
The math follows suit with the other tech giants.
Amazon.com, Inc. (NASDAQ:AMZN) is trading at 21.5 times earnings that are five years out ($4.90 EPS last year, with a 55.5% five-year growth rate). Netflix, Inc. (NASDAQ:NFLX) is trading at 23.4 times earnings that are five years out ($0.43 EPS last year, 77.5% five-year growth rate). Alphabet Inc (NASDAQ:GOOG) is trading at 11.6 times earnings that are five years out ($34.34 EPS last year and a 19% five-year growth rate).
MSFT stock is right in the middle of the group. It has a lower 5-year forward multiple than AMZN and NFLX, but a higher 5-year forward multiple than FB and GOOG.
Lets think about that for a second. Does that really make sense?
In 5 years, growth rates at all of these companies will come down quite a bit. NFLX and AMZN will remain hyper-growth stories because they have small profit bases and huge addressable markets. FB and GOOG will have more modest, but still big, growth stories because they have larger profit bases and huge addressable markets.
MSFT? It will be the same stable, low-growth story.
Bottom Line on MSFT Stock
Why should that low-growth story trade at a bigger 5-year forward earnings multiple than both FB and GOOG?
It shouldn’t. Microsoft’s valuation is over-extended here. It’s a great company with very stable growth prospects, but investors shouldn’t confuse this company for a hyper-growth tech stock.
It’s not. It’s a high-single-digit revenue grower and a low-double-digit earnings grower.
I don’t think MSFT stock is due for a big collapse any time soon; I just don’t think it has much upside from these levels.
As of this writing, Luke Lango was long FB, AMZN, NFLX, and GOOG.